The Path to Growth Runs Through the Middle Class

Too often, we think of good jobs or boosting incomes for middle-class families as the outcome of growth. But a key lesson from the past few years is that placing the incomes of the middle class at the center of our growth framework may be the only path to sustainable growth.

The economic crisis that we’ve just lived through was years in the making. And, while policymakers worldwide worked together to take key steps that averted an even worse crisis, the reality is that we have not come close to addressing the underlying fragility in our current economic structures. Clearly, while we are out of the woods—the financial markets are functioning and jobs are not being lost by the tens of thousands per day as they were in early 2009—the root causes of the crisis have not yet been rectified. This is the motivation behind the report Exiting from the Crisis: Towards a Model of More Equitable and Sustainable Growth.

A key conclusion of the volume is that moving forward, it’s not just that there are “many paths to growth,” but that the path that the United States was on set us up for the crisis. Read as a whole, the volume provides clear evidence for the case that the path to stable growth must put the incomes of middle class at the center of the growth model.

Too often, we think of good jobs or boosting incomes for middle-class families as the outcome of growth. But a key lesson from the past few years is that placing the incomes of the middle class—defined broadly as families that work for a living—at the center of our growth framework may be the only path to sustainable growth. This is diametrically opposed to the most common theory espoused in the United States: that growth comes only through sustained focus on the need of business to see reduced costs, regardless of the implications for employment and wages.

The “many paths” theme is articulated by Prof. Joseph Stiglitz in the preface: “Even before the crisis … there were several alternative forms of market economy, with different policy frameworks.” While the neoliberal model of deregulation and flexible labor markets was associated with economic growth, even before the crisis began, there was ample evidence that this was not the only path. In fact, this was one of the key economic debates of the past few decades.

This debate pitted the more regulated labor markets of northern Europe against the far less regulated markets of the United States and U.K. As solidified in the OECD jobs strategy published in 1994 (PDF), the argument was that the labor market flexibility of the U.S. and U.K. models was the correct path, and that while there may be some bumps in the road, labor flexibility—limited unemployment benefits, weaker unions, and low minimum wages—would keep unemployment low by allowing the least skilled into the labor market. This may increase inequality given that less-skilled workers would be in, rather than out, of the labor market, but it would keep unemployment low and thus be net positive.

However, empirical reality got in the way. In the 1990s and 2000s, countries that did not adopt the tenets of unregulated neoliberalism outperformed those that did on many of the indicators that matter most, such as growth in investment, employment, and incomes. By the 2006 reassessment of the OECD jobs study (PDF), there was recognition that “high benefits were compatible with strong employment performance if the generosity of the state was matched with strong job search obligations on the unemployed.”

However, acknowledging that there may be a variety of paths to growth left unrecognized the fact that unequal growth and the hollowing out of the middle class placed real limits on growth and created the conditions for crisis. As Raymond Torres, director of the International Labour Organization’s International Institute for Labor Studies, says in his chapter in Exiting from the Crisis, “Given the relatively high consumption propensity of low-income households, wage moderation introduced a downward bias in aggregate demand in both advanced and emerging economies.” As middle-class families in the United States saw their incomes stop growing, they took on increasing levels of debt to maintain their consumption. This debt, however, was a key factor in creating the crisis, and now that debt overhang remains a key challenge in sustaining our nascent economic recovery.

The origins of the crisis and the role of unbalanced distribution in prior decades have been broadly recognized. Yet, at least here in Washington, much of the debate remains mired in the same tired grooves. Take the issue of unemployment benefits, for example. Conservatives have been arguing that these benefits actually raise unemployment, rather than ameliorate it, and have been winning the political argument as a number of states have cut back benefits even as unemployment remains close to 9 percent. Yet this is a destabilizing and pro-cyclical policy. Empirical research has shown repeatedly that unemployment benefits have moderated the depth of recession by filling in the gap in incomes for the unemployed, not exacerbated unemployment.

And, there are debates over whether falling wages are necessary to pull us out of the recession. Here again, the conservative line is destabilizing, not stabilizing. To quote Professor Stiglitz in the preface, “It will be hard for robust sustainable consumption to be restored without improving equality. Unfortunately, downward pressures on wages from unemployment may result in exactly the opposite, one of several instances demonstrating that markets on their own are not stable.” So far in the recovery, the jobs that have been created are disproportionately in low-wage industries, following a now decades-old trend in the United States of limited growth in jobs in occupations with middle or high levels of wages. This kind of job growth will not reinvigorate incomes in the United States and pull us onto a more stable growth path.

It is this profoundly important economic debate that Exiting from the Crisis traces up to the present. In a series of short, easy-to-digest chapters, the authors, mostly trade union leaders from around the world, lay out how to reconsider our model of economic growth. The volume’s recommendations are that the financial crisis and global recession should lead us to reevaluate our previous assumptions. They show that there is much to recommend an approach where broad-based improvements in employment and earnings for the middle class are seen as a pre-condition to economic stability, and much to fear if this ideas is not taken seriously. There may be many paths to growth, but one has led to disaster for millions, while the other has helped countries with the least so-called flexibility in their labor market, such as Germany and the Nordic nations, avert the worst outcomes.

This post is adapted from remarks delivered at the AFL-CIO event, “Exiting from the Crisis: A Model for More Equitable and Sustainable Growth,” held April 15.

Heather Bousheyis executive director and chief economist at the Washington Center for Equitable Growth. Her research focuses on economic inequality and public policy, specifically employment, social policy, and family economic well-being.